Microsoft's Struggles Grow: 9 Key Points

Redmond, we have a problem. Microsoft's $900 million Surface RT write-down was not the only troubling sign in the company's rough earnings report.

10 Hidden Benefits of Windows 8.1

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In April, Microsoft posted unexpectedly strong quarterly results, seemingly unhurt by Windows 8's struggles nor the collapsing PC market. The company could go only so long until Win8 began to affect its bottom line, however, and it appears the clock has run out.

On Thursday, Microsoft announced fiscal fourth-quarter earnings that missed Wall Street estimates by a significant margin. The company also announced a $900 million write-down related to unsold Surface RT inventory, a revelation that exposes the desperate subtext of the product's recent $150 price cut.

Overall, Microsoft's posted $19.9 billion in sales, with earnings of 59 cents per share. Analysts had expected revenue of $20.7 billion and earnings of 75 cents per share. Investors lost 7 cents due to the Surface charge.

Last week, Microsoft CEO Steve Ballmer unveiled a sweeping company restructuring. Dubbed "One Microsoft," the plan is designed to make the company more collaborative, such that it delivers products more quickly, and creates better synergies among the various platforms and devices in the Windows ecosystem.

In hindsight, the plan telegraphed the disappointing financials. CFO Amy Hood, leading her first conference call since replacing Peter Klein in May, conceded as much. She said Microsoft "needs to do better," and that the recent reorg will help the company to do so.

Now that the PC market has finally revealed some of Microsoft's vulnerabilities, investors and IT observers have a better sense of not only the challenges Steve Ballmer and his re-organized company will face, but also some of the new strengths that are already developing.

Here are nine major takeaways from Microsoft's lousy earnings report.

1. Microsoft remains a very profitable company.

Microsoft had a surprisingly bad quarter, but revenue was still up 10% year-over-year. The company continues to dominate important enterprise markets, and to build reliable, multi-billion dollar revenue streams

2. Windows has never been this vulnerable.

To be clear, "vulnerable" is a relative term. Windows will be at the core of hundreds of millions of enterprises for years to come.

But Microsoft's empire was built by leveraging the ubiquity of Windows, both in the office and among consumers. If consumers reject Windows 8 for other platforms, particularly on tablets, then Microsoft's core business can only recede. There's a line that separates a huge business from a de facto monopoly, and Microsoft could soon learn the difference.

For the quarter, Windows Division revenue grew 6%, but this includes deferred revenue from a previous Windows Upgrade Offer. If this sum is subtracted, Windows sales actually declined 6%. This confirms what market share reports had already indicated: Windows 8 hasn't sold well in general, and in the months since promotional pricing ended, the OS really hasn't sold well.

Microsoft's Surface RT write-down confirms that buyers have rejected the much-hyped tablet -- but most observers had already assumed as much. But a $900 million write-down -- a jaw-droppingly huge figure -- was a surprise.

Based on Microsoft's disclosure, Alex Wilhelm, a reporter with The Next Web, estimated on his blog that Microsoft has between 3 million and 6 million unsold Surface RT tablets. If Microsoft actually produced anywhere near this much inventory, the company misread the consumer market by a comical degree.

Patience Grasshopper... so tell us your solution to what MS should do? Split Win 8 into two OS's? Oh wait, there already ARE two versions. RT for mobile/touch and Win8 for desktop/mobile/touch. Should they just abandon the mobile and touch device OS altogether? Not going to happen. So, again, tell us how YOU would approach creating an OS that can charge forward into the future of mobile and touch and still maintain compatibility with the legacy apps that billions use every day. And, do it without having to create and maintain multiple OS's, versions of the same apps, etc.I think the strategy is sound. What they need are compelling hardware devices and mobile apps (that can compete with the iOS and Android library). This takes time and developer buy in. As MS has pointed out, they are largely at the mercy of OEM's to move the platform forward. Thus, the need to create Surface to get it going in the direction they need it to. And, to run the full package, you need low power high performance chips. We'll see how Haswell plays out in this regard.

Agree. It's been MS strategy for some time to deliver raw (read "unfinished") product and address the biggest complaints later (ignoring many important, but "low-priority" items). No wonder if flops so often. AustinIT, don't ask me for a solution to MS problems - ask Gartner.

hmmm... 2 versions- RT which is being abandoned by vendors and Win8 which has not been very favorably received. I do not think the strategy is sound, If you want to expand into a new market you usually try not to alienate your existing market to do it.

The metro/Modern environment is the right answer for Microsoft. It gives them a good player in the tablet space. Altering the desktop OS to be primarily tablet-focused and eliminating development of desktop apps is not.

Saying they are at the "mercy" of their OEM's and thus needed to secretly develop a competing platform and then spring it as a surprise is not going to garner any points either.

You asked what would I do? I would have made the Metro/Modern environment an addon for desktop users - if you want to easily install Angry Birds from the appstore you could. You can argue that is the way it is now, but the point of this article is that the customers are not buying that argument or the products either

While I've now grown used to Windows 8 and don't think it's that bad, plenty disagree with me. I think Microsoft has some simple solutions. Although the PC market is shrinking, people seem to love Windows 7. Job 1 -- make sure Windows 7 users love Windows 8 and flock to it. If that means brining back the Start Menu and Aero, do it and make sure enterprises follow. Job 2 -- provide a touch environment as just another expression of Windows 8. Leave everything Windows 8 offers (including all the management, AD and VPN features enterprises love) and add to it. Job 3 -- make sure the touch environment is drop-dead intuitive, slick, fancy and engaging. Perhaps it's just me but I've yet to see a really outstanding modern app. At first even the simplest of all apps (the modern mail app) baffled me as to what I was supposed to do after I started a new message. Job 4 -- make damn sure your developers have a clear path forward on both the desktop and whatever expression you build for tablets. Job 5 -- you need WAY, WAY quicker update cycles. As soon as problems surfaced for the Surface, you should have been rolling out a Start Button/Start Menu/Start WHATEVER to stop the bitching, moaning and complaining! Job 6 -- hand out humility pills to the staff. Point out today's 11% stock drop, take their bonuses away and tell them they have limited time to fix the problem or they are fired. Maybe fire them now and figure out way to hire some folks from Google or Apple (if they'll even entertain it) and get some fresh blood pumping through those veins. Job 7 -- this one is for the board. See Job 6 and make sure Balmer understands it also applies to him.

1. Microsoft remains a very profitable company.(Ballmer was a Pepsi exec during its decline.) Not as profitable as it should be. Pepsi was still profitable as it lost market share to Coke.2. Windows has never been this vulnerable.Per those fools at Gartner et al that can't explain why XP still has 40%? Yes Tablets have grown, but unit numbers of Basic Desktops/Laptops are up slightly as is 1% US economic growth. Total expenditure of Tablet+PC approximates PC only spending a few years back. Real Estate agents have a Tablet and Smartphone but use Laptop to show Multiple Listing Service to customers, & use a desktop in the Office. Brokers & Bank Execs still do paperwork on PC. Doctors carry around a Tablet but enter patient notes on a PC. Would you want your MD to make a surgical decision based on Xrays he viewed on a Tablet? Macs, Linux, et al are not a threat to Windows, Microsoft is.3. The Surface RT is an epic flop. MS Usability group usually has a strong influence on MS direction. Apparently ignored to "be like Apple" & misunderstanding Apple's key metrics. Surface is a Device; RT is a "Metro" presentation interface: IOS has Cocoa, & Android has Dalvik (java micro edition clone). 4. Enterprise business performed well -- but still below expectationsBallmer's previous reorgs failed. The current reorg seems aimed at help Ballmer's clueless outside management hires control the company.5. Office 365 is doing great, but the larger Office business is a mixed bag. Office365 eats into not only on premise Office sales but also "Office Servers" sales. Office365 popularity is due to its lower cost (& saves businesses money on infrastructure), & MS loses money on its almost break-even pricing. Office is no longer the cash cow that bouys up MS.6. Microsoft is generating money from mobile phones -- but maybe not Windows phones. Yet Apple owns 35% of ARM holdings & makes money from licensing of CPU in MS phones. The key to Mobile success is wireless providers that promote & discount the phones; both Allen & Gates own big stakes in Telecom. Handset manufacturers use Android because: has small footprint, it is "free", and has drivers for Telecom RTOS requirements. Windows Phone is NOT free, larger hardware footprint, and handset/tablet makers need their own Hardware Abstraction Layer for Windows.7. Microsoft's OEM relationships are a mess.Perhaps the commoditization of hardware has something to do with it? Microsoft used to depend on partners evangelizing their products, now MS *THINKS* they understand their OEMs' customers better than they do.8. Windows 8.1 needs to succeed.Lack of acknowledgement of the empiric upgrade cycle (5-7 years). Previous Ballmer reorgs screwed the OS: previously OS (Server+Desktop) was 45% of cost & 25% income (vs Office 20% of costs & 50% of income).(MS no longer breaks out this cost information externally), NT6 codebase is longest running in MS history, Vista 6.0, Win7 6.1, Win8 6.2, & issues in the KB as "to be fixed in 6.0" are still broken in Win8. This OS code stagnation lowers internal OS costs, offers no value to users.9. At least Microsoft has good company.Most are Microsoft partners, but countries Worldwide are in financial turmoil. This epidemic of bad decisions seems to stem from stockholders (esp Fund managers) that vote with management e.g. Microsoft stock would surge if the board kicked Ballmer out.

* RT stands for "Run Time" (like as in as in Java Run Time) that sits atop an Operating system; like Dalvik (JME clone) is a Presentation Interface for the Linux Kernel in Android. There is no "native mode" Win8 that runs on ARM. Handset mfgs have free Android but have to make own OS and then buy RT. "Wintel" (Microsoft, Intel, AMD?) together has only 1/5 the capitalization of Apple. MS could have joined Oracle and supported JME against Android instead of reinventing the wheel.

* Windows code used to be portable running on Itanium, PowerPC, MIPS, Alpha, could have been recompiled for ARM. Now x86 (and AMD64 if you don't count incompatibilities) only. Note that Windows 7 Embedded can be trimmed to run on 1 GB flash (and Windows Compact Edition even less).

* Note new Intel LP CPUs are 32 bit only like ARM. MIPS (not Apple controlled), gaining popularity in China and India, has a low power 64-bit implementation.